Are You Taking Advantage of a Spousal IRA?

January 3, 2013

Just because your spouse does not work outside the home does not mean that he or she cannot be covered by some sort of retirement plan. Individual retirement arrangements (IRAs) are available for non-working spouses, even if they have no income. Such IRAs are known as spousal IRAs, and if you arenâ€™t taking advantage of this little known retirement plan, you should.

Spousal IRAs Don’t Require a Job or Income

Itâ€™s often thought that in order to make a contribution to an IRA that you need to have earned income in order to do so. But as long as the working spouse has sufficient income you can not only make IRA contributions, you can also take a tax deduction on it in the year in which it is made.

As long as one spouse earns at least enough income to cover the amount of the contribution, the non-working spouse will be able to make an IRA contribution. For example, if the working spouse makes an IRA contribution of $5,000, the non-working spouse can also make a $5,000 contribution, as long as the working spouse is earning at least $10,000.

If neither spouse has an income, no IRA contribution will be permitted for that year. IRA contributions cannot exceed the amount of income earned by the couple.

Maximum Contributions

For 2012, the maximum IRA contribution was $5,000. That has been raised to $5,500 in 2013.Â In addition, in each year you can also make a catch-up contribution of an extra $1,000 if you are age 50 or older.

Even better, each spouse is eligible to make a contribution, even if one spouse doesnâ€™t work and has no earned income. If each spouse makes the maximum contribution, they will make a total contribution of $11,000 for 2013. If you are both 50 or older, youâ€™ll be able to make a combined contribution of $13,000 for 2013.

For a non-working spouse, $5,500 is a whole lot better than having no retirement plan at all. If contributions can be made consistently for at least 15 years, the account will easily exceed $100,000 by retirement age, taking investment earnings into the mix.

Roth IRAs Too!

The spousal IRA rules also extend to Roth IRAs. The major difference is that there is no tax deduction for contributions made to a Roth IRA account in the year that they are made. But just like traditional IRAs, the investment income earned on your account will grow on a tax-deferred basis.

Despite the absence of the tax deduction on contributions, Roth IRAs have a major advantage over traditional IRAs. Any withdrawals taken from the account after you have reached the age of 59 Â½ can be taken tax-free as long as the account has been in existence for a minimum of five years.

This provides an important tax advantage in retirement, which will be especially important if you will have a high taxable income in your retirement years. And once again, both the working spouse and the non-working spouse are eligible to make an annual contribution as long as they meet the income qualifications for Roth IRA plans (see below).

Deductions are Reduced or Eliminated in Certain Circumstances

For traditional IRA plans, there are no income ceilings on tax deductibility as long as neither spouse is covered by an employer-sponsored retirement plan, such as a 401(k). If either spouse is covered by such a plan, there are income limits beyond which an IRA will no longer be deductible.

In 2012, you could make a full IRA contribution on an income up to $92,000 if you were also covered by an employer plan. At $92,000 your deduction began to phase out gradually, disappearing completely at an income of $112,000.

For 2013, the income limits are increasing to $95,000 and $115,000. You can still make a contribution to a traditional IRA even if your income exceeds the maximum income level. There will be no income tax deduction for the contribution, but the contribution amount will not be taxable upon withdrawal either, and investment earnings will still accumulate tax-deferred.

For Roth IRAs the contribution limits are different. For 2012, Roth IRA contributions began to phase out with an income of $173,000. They disappeared completely at an income of $183,000. For 2013, the range increases to $178,000 to $188,000.

Unlike traditional IRAs, once you reach the Roth IRA income threshold, you are no longer permitted to make an Roth IRA contribution.

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Kevin Mercadante is professional personal finance blogger, and the owner of his own personal finance blog, OutOfYourRut.com. He has backgrounds in both accounting and the mortgage industry. He lives in Atlanta with his wife and two teenage kids and can be followed on Twitter at @OutOfYourRut.